Becoming a Better Trader: Let the Chart Be Your Guide
By Quint Tatro Sep 19, 2007 9:25 am
Learning to stick with the chart and the chart only will do wonders not only for your performance but your emotional capital as well.
I continue my series today with a rule that for many years stood as my #1, but only after realizing the importance of position sizing and the adverse affect it could have on my portfolio during times of trial did I move today's rule down one notch, replacing it with yesterday's rule about position sizing.
Furthermore, as I have said previously, these are my rules and my goal with this series is not for you to adopt my strategies: my only goal is to spark in you the desire to start searching out your own.
When I think of a stock chart, I am reminded of the spaghetti sauce slogan from long ago: "It's in there." Sadly I don't remember the company but I do recall a woman stirring a big pot and being asked over and over about certain ingredients. "Basil? It's in there. "Oregano? It's in there" and so on.
When I was a boy, for some reason I thought that commercial was a riot and when my mother would make spaghetti I just had to pretend I was in the commercial. Trying to be humorous, of course, I would rattle off odd things that little boys are interested in, and my mother would humor me by playing along. "Frog legs? It's in there. "Salamanders? It's in there." I guess I had a little too much time on my hands.
Stock charts are very similar to that pot of sauce. They are nothing more than a collaboration of all public information and, arguably, all private information as well. "Insider selling? It's in there. Insider buying? It's in there. Earnings growth? It's in there." And so on. While I do review news to understand what is going on, and I also study fundamentals, I rarely will let these things alter my decision-making, choosing to stick solely with the chart.
Typically, after someone joins me on Tickerville.com and starts to trade alongside me, at some point I will face some good questions that always go back to the spaghetti sauce commercial. "Quint, what do you think of the recent insider selling? Quint, what do you think of last quarter's earnings? Quint, what do you think about management?" I will always instruct the individual that I am rarely if ever concerned with these things and will always choose to stay focused on the chart. Why? You got it, because, "It's in there."
If you missed the beginning of Prof. Tatro's series, Becoming a Better Trader, you can catch up with the first two columns here: Developing Your Personal Rules and Position Sizing.
While a chart is nothing more than historical price and volume plotted between two axis lines, if viewed properly it is the window into how people really feel about the company and its prospects for the future. Furthermore, because of human nature and the greed factor, many will debate that it also holds the secrets to the future as charts so often mysteriously give hints when something big is coming. People are often baffled when a stock goes on a big run only days before a major announcement, or starts to fall on no news only a few days before a terrible quarter is announced. However you want to interpret what is happening to create this, the bottom line is the chart was speaking and telling you something was up.
Regardless of what you may believe about their ability to foreshadow the future, they are by far the best representation of what truly has been happening in the past. So often we are inundated through the media with very smart individuals telling us some of their best ideas.
On any given day we can watch an hour of financial television and probably come away with a dozen stocks that sound like they are ready to sky rocket. How does one decipher this noise to really find the winners? While each individual paraded in front of us may have their own opinion, how do we find what most of them are buying right now, and not in three months when their prospectus comes out?
It's really quite simple. Look at a few charts. Start with the iShares to find out which sectors are in favor. Which sectors are trending higher? Which sectors are seeing volume pick up? Which sectors are rotating out of favor and starting to trend down? Once you have a good idea of what is moving, start to drill down within that sector.
If you do desire to learn more about chart reading a few books I recommend are How to Make Money in Stocks by William O'Neil or How I Made Two Million Dollars in the Stock Market by Nicholas Darvas, which are my two favorites and a must read for anyone getting started. You can also visit my site Click here for further information.
In addition to the noise coming from individuals who can sell ice to Eskimos, individuals are inundated with more information today than ever. The biggest problem I see facing most new traders is just how to cut through this noise and focus on what matters.
This rule, like so many other rules, came to fruition for me through trial and error. I found out the hard way what happens when I deviate from what the chart is telling me. It wasn't too long ago I started becoming interest in technical analysis and chart reading.
Prior to this I had always been a fundamental value based investor. I remember finding what I thought was the best of both worlds in Goldman Sachs (GS) in the middle of 2002. I was still learning technical analysis but knew that the chart had broken above a longer term down trend and was starting to creep higher.
Furthermore, the fundamentals were outstanding and I suspected that with major merger and acquisitions coming down the pike the numbers would continue to improve. I started a decent size position for all my clients. I had no problem waiting as that is what you do when you are a value-based investor but I still was searching out my balance between outside noise and reading what the chart was saying.
Remember if you will that the market was only just starting to come out of its major correction. Brilliant people like Bill Gross were predicting DOW 5,000. I was a punk kid so predictions like this had me on edge. Rather than understanding to stick with the chart and the chart only, I was still absorbing everything I could about the general market and anything written on my stocks.
That is where I went wrong. I remember sitting in a Barnes & Noble sipping coffee and reading Barron's. I caught an interview with a short only hedge fund manager. I was intrigued by his thoughts about the market and individual stocks however I was crushed to learn that one of his biggest short positions was none other than Goldman Sachs (GS). "Oh brother," I thought, "I am completely wrong on this trade". The following Monday I closed the position completely at $89.00 a share. Yes, I know. Let's just say it was a very expensive lesson.
You would think I would learn my lesson here, but no, it took numerous names and numerous smart individuals who could sway my opinion taking me out of great stocks or enticing me to buy losers before I realized that I would no longer adhere to any noise at all and only read the chart.
Yesterday, morning I was buying many new names, working incredibly hard to pretend the Fed was not coming and trying to focus only on the charts. A member actually inquired as to why I was buying what I was. I responded saying that I was trying to act as if it was only me and the chart and nothing else. Stocks like General Electric (GE), Adobe (ADBE), Intel (INTC), Ascent Solar Technologies (ASTI) and Hansen Natural (HANS) were telling me that good things were going on. So rather than bury my head and be intimated by the Fed, I kept buying.
Regardless of who you are or what level of trader you are. I firmly believe that learning to stick with the chart and the chart only will do wonders not only for your performance but your emotional capital as well.
Positions in GE, ASTI, HANS and INTC.
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